Friday, 17 July 2015

Embedded rents.

Common sense and simple observation tell us that:

a) Goods in shops cost pretty much the same across any country;
b) Rents diverge wildly; the additional rent you pay in a high wage area soaks up most of the higher wages in that area.
c) There is an intermediate category; services (consumed at point of purchase), which are more expensive in high wage areas, but the differential is not as big as for pure rents. Part of what you are paying for is 'space', the cinema seat, the dentist's chair, the table at the bar etc; which I refer to as 'embedded rent'.

An American Home-Owner-Ist organisation called "The Tax Foundation" does some excellent statistics. They link through to The Bureau Of Economic Analysis.

Scroll down to page 9 and you will see that:

a) The price of 'goods' hardly varies across the country (lowest 94.1, highest 108.3)
b) Rents vary wildly (lowest 62.9, highest 158.7)
c) Services is somewhere in between (lowest 91.1, highest 115.9).

The co-efficient of correlation between (a) and (b) is 0.88, i.e. about 88% of the variation in the cost of goods can be explained by variations in rents. The co-efficient of correlation between (b) and (c) is 0.83, i.e. about 83% of the higher cost of services can be explained by the higher rents. And the causation could just as well be the other way round...

But either way, the influence which higher (or lower) rents has on the price of goods and services is small (one-fifth and one-third respectively). So for example, if rents are 10% higher, goods are only 2% more expensive and services are only 3% more expensive.
Which debunks, yet again, the silly KLN that a tax on the rental value of land would be passed on to consumers as higher prices. Higher rents themselves do not push up the price of goods and services (excl. the embedded rent element), and as the tax is paid out of the rent, the total rent cost does not change.

By and large, it is the number of units which can be shifted from any location which dictate the rent, even if the gross profit per unit is exactly the same in all cases.


Derek said...

That price data also suggests that minimum wage legislation doesn't have much effect on the prices of goods and services, doesn't it?

Mark Wadsworth said...

D, the data is not cross referenced to theinum wage in each state so no clues either way.

Derek said...

That's a pity. Doing a bit of the ole theoretical rental analysis, I would expect higher minimum wages to lead to higher residential rents and lower commercial rents. It would be nice to know whether that pans out in practice.

Mark Wadsworth said...

D, remember - a minimum wage stipulated by bureaucrats has two effects.

1. Some low earners get higher pay.
2. Other low eaners lose their jobs.

The two effects probably cancel out.

Further, what about cause and effect?

We would expect bureaucrats in high wage states to set a higher minimum wage and vice versa.

So even if there is a correlation between minimum wage and rents, it might be that higher rents causes bureaucrats to stipulate a higher minimum wage.

See e.g. London.

Random said...

This is the point of the Job Guarantee wage floor. The bad jobs are competed away and workers join the Job Guarantee pool. Govt uses fiscal policy to make sure the pool does not get too large. Plus, employers hire out of the JG "work-ready" pool which reduces costs to employers and eliminates the "long-term unemployed" issue.
The output of the JG workers is a *bonus*
If the job is seen to have public purpose it becomes part of JG. If not it goes away.
And you limit *open* immigration to countries with full employment/JG *and* reasonable social infrastructure. Otherwise, points based. This is the pragmatic way to open borders. It enforces "brain drain" on non-JG countries. If sanctions work, this is a sanction that says "improve your social infrastructure and join us." The countries with JG and open borders and social infrastructure gradually expands until it reaches a tipping point.

Derek said...

Those two are the immediate effects. But there are other knock-on effects. If we follow the process through assuming that all businesses have rent (real or imputed):

1) Minimum wage is raised.
2a) Businesses raise prices or cut costs to maintain profitability.
2b) Businesses who can sack people without problem, do so.
2c) Businesses who can't do either of the above have reduced profits or make a loss.
3) Businesses who make a loss or have reduced profits, renegotiate with landlords or rent cheaper premises
4) Businesses who still make insufficient profit after (3), close down.
5) Market rents for commercial properties drop as a result of (3) and (4)
6) Surviving businesses have restored profitability owing to cheaper rents.
7) Cheaper rents encourage new business formation
8) New businesses hire minimum wage workers from pool sacked in (2b).

I can see other possible knock-on effects. I won't go into details of how they all work but a rise in general prices and residential rents as a result of increased employee purchasing power is an obvious consequence; a slight rise in the profitability of businesses is a less obvious consequence; increased rural depopulation is perhaps the least obvious consequence that I've thought of so far. But I can make an argument for it.

Of course it's all just hand-waving without some actual evidence. That's why I wondered if the study could be used to test the above.

Random said...

D, looks like benefit the south screw the north. Otherwise the Tories wouldn't do it - there is ya evidence!

Derek said...

True enough! I'm pretty sure that minimum wage has the worst effect on employment where rents are lowest, so you could be onto something.

Mark Wadsworth said...

R and D, you are getting off the topic and making it all too complicated.

The only thing we can be fairly sure of is that the whole cut working tax credits/increase the national minimum wage package is a pro-south and anti-north measure.

(and if you want to reduce in work poverty, best thing is a citizen's income. Simple to administer, has no measurable effects on anything els).

Derek said...

Sorry to go off topic, Mark. But your post was common sense so I didn't have anything to say on it directly. It just made me wonder if what it said applied to wages as well as prices, so I went down that path.

And I am completely with you on the superiority of LVT/CI over minimum wage legislation. But I think its important to fully understand these "second-best" proposals like minimum wage, rent control, retail price maintenance, etc. which "sort of" achieve the same results but with additional consequences. Firstly because they are being implemented right now and I want to be able to explain why they're better (or worse) than what we have now but not as good as we could have and secondly because I'm a pragmatist and while I know they are worse than LVT/CI I want to know if they're better or worse than other alternatives and what the downsides are. For instance I know that LVT is best but if my choices are between voting for the guy pushing income tax and voting for the guy pushing sales tax, I need to know which is better and why.

Thanks to your blog I do know and I can point other people to that information so that they know too.

Mark Wadsworth said...

D, the problem is, nobody really knows.

The lefties say: higher minimum wage = less poverty.

The right wingers say: higher minimum wage = fewer jobs = more poverty.

The same goes for "mothers pay gap" and the impact of extended maternity leave.

It is difficult to actually find empirical evidence to support either position.

But on balance, interfering in private contracts like this is probably overall a negative. And the system needs to be enforced, which is a whole layer of red tape on businesses.

What the government can do is balance things out via the welfare system.

Now, we can directly subsidise low wages with things like Working Tax Credits, but the benefit of the subsidy goes to businesses which tend to pay low wages. Plus it is really fiddly and leads to all sorts of unintended consequences.

Or we can discourage people from taking low wage jobs by paying them income support UNLESS they take a low paid job. Again, really fiddly and leads to all sorts of unintended consequences.

Currently, the UK does both, which is madness. The welfare system is a mix of contributory and means tested stuff, which are contradictory concepts.

Or... we can just dish out a Citizen's Income, which sets a natural sort of cut off point minimum wage because there will be a viable alternative to working in a very low paid job.

My view is, a good law is easy to enforce. A citizen's income is easy and cheap to administer, and if there is no official minimum wage you don't need to supervise and enforce it either.